Saturday, May 02, 2015

A Visit to Niceland (or, "What is Money?")

I titled this piece not because I intend to give you the same old explanation that doesn't make any sense, but because I want to explain it in (hopefully) a different way... one that gives you a better understanding of what money actually is in a way that hopefully shines a light on everything else you ever read about the economy.

You've probably been taught, as I was, that money is valuable. This doesn't make a whole lot of sense because it's just pieces of paper or numbers in a computer. Perhaps you've been taught that it represents value, perhaps your share of the gold in Fort Knox. "Money doesn't grow on trees," went the adage, because it represented some amount of physical gold or silver. After all, the gold and silver certificates that were the precursors of our bills used to be printed with "Pay to the Bearer on Demand". But even when they were common, you really couldn't expect to walk out of the bank with gold in exchange for you certificate. Today that message is removed entirely.

Money used to be a convenient way of "carrying" gold
image via wikimedia commons

If you're really savvy you've been instructed that modern economics is "driven by debt". That in itself is pretty incomprehensible. Debt is debt, and it doesn't really make a lot of sense that debt should make money spring into existence, does it? Other people have explained this, but all of those explanations that I have seen (such as The American Dream film) are bigoted fear-mongering conspiracy theories applied to the American system. I'm going to explain how you arrive at a fiat monetary system through good intentions rather than Machiavellian machinations.

So what I'm going to do here is chuck the whole system aside for a bit and explore what the world looks like without money. What if capitalism had no capital?

No money, No money, No money....

In this imaginary society ("Niceland") people don't use money. Instead they just do what they choose to do. But of course, as you might expect, not everybody is very good at everything. You might want to call on your neighbors to help you out. Everybody in Niceland is... well... nice, so they haven't any problem at all helping their neighbors out.

You might immediately conclude that Niceland was a communist country, but no... Communists use money. They just don't call attention to it. Communists live by this principle: "From each according to his ability; to each according to his need." Mostly they like to keep things "fair" by demanding more from some people than from others, then spreading the money around more or less evenly. Mostly "less", since some people are going to get a lot more than they give. If that doesn't exactly sound fair, it's because Communists aren't really that nice. The illusion of altruism masks something much darker. You see, "ability" doesn't mean desire or effort, nor is it a self-assessment. Instead, they'll just take whatever it is they decide you owe, all the while informing you that it's "fair". And let's be honest... giving away someone else's stuff doesn't make you charitable. Nor can a victim of armed robbery be hailed as a philanthropist.

No, in Niceland we have no money, and we don't use force. Instead we just do favors for one another voluntarily and cheerfully. Of course, since we're all very nice in Niceland, we all hope to return the favors we receive someday.

In Niceland, we're very nice.
image via
When you're dealing with a lot of nice people, it can get pretty complicated remembering who you want to return favors to. So we make things easy here by giving someone an IOU when they do us a favor. Sort of like, "IOU one favor". Sometimes we like to keep a little better track of it, so we'll write "small favor", "favor", "big favor", or "great big favor". Then, when someone needs something from us they can just present the IOU that we gave them, or give us one of their own. A lot of these IOUs don't exist before we receive a favor. We just write them down on a new slip of paper when we need them. But that's cool because we all accept each other's IOUs. We're that nice.

Seems legit.
When we started doing this in Niceland it was all well and good for a while, but then some of us started to feel bad because we really wanted to return favors to people, but some people didn't really need what we had to give. I might owe you a favor, but since I only make rubber widgets, you might never need what I produce. What you really need is something that Bob can give you. No problem there! I gave Bob some rubber widgets, and as a result I have one of Bob's IOUs here. I can give you that, and you can take it to Bob. I'll just give you the favor that Bob says he owes me.

Now some things become pretty clear about commerce in Niceland:
  1. Some  of us can't really return a favor in kind. And so we write IOUs that we are knowingly incapable of redeeming.
  2. The people who receive those IOUs know as well as we do that we're never going to redeem them. They plan to pass on the obligation. In fact...
  3. The best we can do is trade in other peoples' obligations. But really, those were given just like ours, by people who have no intention of ever repaying in kind.
  4. Everybody's too nice to publicly notice the fact that the IOUs don't really mean anything.

Let there be...

A "fiat" currency is one where money just springs into existence by decree. The IOU is a perfect example, because I can just write one, and it has value, backed only by my promise to repay the favor. The IOU incurs an obligation. It doesn't just act like money... it is money. Gambling "markers" are traded all the time. They're just IOUs. A marker is as good as cash until the casino calls it in... and only then are some of them revealed to be bad checks. A marker is also a good example of real-world currency that's not issued by a bank.

Far from being a money-free society, Niceland naturally[1] gravitated to capitalism, with a fiat currency called the IOU, backed by good intentions. It really and truly is "driven by debt", and it's a pretty good approximation of what we have in real life in the United States, with two significant exceptions.

The first significant exception is motivation. Nicelanders are driven by a desire to make good on their obligations, whereas Americans are driven by a desire to accumulate the obligations of others, represented by currency. They don't think of it that way, of course. Mostly, they don't think of it at all. They just know that money gets them "stuff", so... mo' money.

The other significant exception is the Bank. And not just any bank, but one particular banking system, the National Reserve Bank. It's the only entity that's legally allowed to issue "dollars", which is what we call our IOUs. It exists to solve the problem of "good intentions." You see, so long as we traded in existing IOUs that represented actual services promised, the value of each IOU was pretty solid. But some people realized that they could just write the IOU with no earnest intention of repaying, When that happens they just run around writing IOUs that are completely worthless.

Fiat money is essentially a promise. Belief = worth.
image via
Money is whatever you exchange, even if it's promises.
image via

That happens in the real world, too. If people could just get whatever they want by making empty promises, they will. They won't bother to trade in currency obtained from others. Soon, IOUs are flying everywhere and they're worth nothing. It gets to a point where no amount of currency buys anything at all, and that's hyperinflation. So to prevent this, what's needed is some issuer of currency that can never go broke and can never renege. So except for some outlying examples like gambling markers (which are kept mostly honest because they'll be cashed in for currency), all of the currency in the United States is issued by the Federal Reserve Bank system. And the Federal Reserve Bank system is controlled by, and pays its profits to, the government of the United States. In theory, the People.

Note: I know that you might have been told that the "Federal Reserve Bank" is owned by shadowy foreign interests beholden to no one and that they hold the US Government in thrall. It is the central theme of the film "The American Dream". This is, to put it mildly, anti-Semitic, bigoted horseshit. It is the literal meaning of the conspiracy trope that "the Jews control everything" (the Rothschild family is Jewish)

First of all, there are twelve Federal Reserve Banks. By law, the Federal Reserve banks pay out a 6% dividend to their stockholders after expenses. Its stockholders (again by law) must consist of US commercial (not investment) banks. No Fed stock may be owned by any foreign interest or any private interest (look it up). All profits of the Federal Reserve above the statutory 6% dividend and operational reserves are paid to the Treasury of the United States of America. 

Hyperinflation. In 1923
Germany, currency was
cheaper than firewood.
Since we "pay" our currency back to "ourselves", the dollars are good so long as we never call them due. We say they're backed by "the full faith and credit" of the United States Government. In other words, by our belief alone. And "full faith and credit" means that the government will never default on a debt. If necessary it will... er... issue more debt. Sounds screwy, but yeah. It really works that way. Debt is the only legal tender.

And yes, I know that you've been taught that it's the other way around; that money is used to pay debt. But that depends on the fiction that money has actual value. In reality it always represents debt... a promise to repay. When you take out a loan the actual repayment is in the goods and labor that you give up to acquire the money used to repay the loan. That's where the value is. The dollars are just markers.

The danger is when politicians, having learned that money is simply a promise, promise everything to everybody... and not through their own efforts, but by the easy means of fiat. They make empty promises in which the debt is paid with more debt, with nothing of actual value having been produced. And that's contrary to the nature and purpose of the system, which is to be a stable and reliable keeper of promises.

When people lose confidence in this system, the money loses its value and People then look for a harder currency... in effect, "cashing in the markers". And that's when the whole thing collapses. It is we the People, through our government and our own self-discipline, that have the task of keeping our currency strong by limiting our debt to that which we intend to repay in kind. We should limit government spending not because we'll "run out of money". We won't. We should do it because otherwise the People will run to other money having lost their faith in ours. Then what we have will be worthless.

I'll come back to Niceland in a later post.

[1] I say "naturally" because it always happens. Always. Money changes hands in the People's Republic of China. In Star Trek (supposedly a money-free society), gold-pressed latinum is the de-facto currency (because it can't be created in a replicator). And where that's not available (as in Star Trek Voyager), the currency of choice was "replicator rations". Still, no one ever went hungry, did they? Truly communistic societies of greater than a handful of people are completely fictional.


  1. As usual, another excellent article. Too bad the bureaucrats don't read, much less understand finance and economics.

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